Junior Mining to be Crushed by Lack of Financing?

Junior miners are undoubtedly weathering a storm. PricewaterhouseCoopers’ (PwC) Junior Mine 2012 is yet another acknowledgment of how difficult the financing environment currently is. In 2012, the top 100 mining companies on the TSX Venture exchange only raised $1.6 billion in equity financing; that’s compared to the $2.7 billion raised in 2011. Other forms of traditional financing have also become increasingly difficult to come by. So, what lies ahead for junior miners? It depends upon their ability to develop survival strategies.

Contracting risk appetites have weighed heavily on junior miners’ access to funding. A high risk-reward ratio is the industry’s “sweet spot,” notes PwC. But it is apparent that market participants currently prefer less volatility, more security and higher rewards.

Annually, PwC analyzes the top 100 companies on the TSXV based on market capitalization. While in 2011 the market capitalization headline was all about increases, the story in 2012 unfortunately is decline, the firm’s report states.

The market cap for 2011’s top 100 companies was $20.6 billion. In 2012, the top 100 were valued at $11.7 billion.

“On average, producers were the only ones in the Top 100 not to face a significant decline in market capitalization” in 2012, the report notes. That further testifies to the market’s craving for certainty and security.

It is certainly disheartening for exploration- and development-stage companies to watch their value erode, often due more to sentiment than fundamentals. However, it is also problematic given that investors’ aversion to risk is coupled with aversion to financial institutions.

“This year’s Top 100 … saw a 52% decrease in debt and equity financing compared to 2011’s Top 100 junior mining companies,” John Gravelle, mining leader of the Americas for PwC, notes in the report.

For some, the financial situation is dire. “[F]or many juniors their search [for financing] is … a matter of life or death,” Gravelle states. “Dramatic — yes — but it’s a sentiment which packs a lot of truth.”

“Juniors can no longer rely on equity to fund their activities in the way they once could,” according to an Ernst & Young presentation.“Project debt is available only on a highly selective basis, but remains largely unavailable or prohibitive to early-stage explorers.”

M&A activity also suffering

Even the environment for mergers and acquisitions is being impacted by current market sentiment.

“Many junior miners, who are holding their breath, hoping to be acquired by a senior mining company, will either have to pursue other growth and financing options or be willing to accept much lower valuations,” states the PwC report.

Many juniors have worked hard to increase their resources and are holding attractive portfolios. In some instances, larger companies will attempt to take advantage of juniors’ depressed share prices to scoop up a bargain. However, PwC suggests that in many instances the senior companies may not be able to make offers that reflect the juniors’ true value.

Companies further up the chain are also facing increasingly demanding investors who are want better governance and accountability. Investors want more dividends and share buybacks. They also want miners to institute tighter capital spending policies, PwC’s report states.

Gravelle notes that we may see some juniors get gobbled up, but also predicts that junior miners will largely decline low-value offers.

“To avoid selling at discounted prices, we may start to see a flurry of ‘mergers of equals,’ amongst juniors or juniors and mid-tiers,” the report states.

That is one survival strategy, but not the only one. Granted, the financing environment is tough, but juniors have displayed the ability to persevere thus far and are encouraged to pursue the struggle for ongoing survival.

PwC, Ernst & Young emphasize strategy

PwC expresses optimism about future conditions. John McCoach, president of the TSXV, told PwC that he fully believes mining is still an attractive business to be in — especially in Canada.

Still, that does not mean that companies are advised to sit back without means or method and try to coast to calmer waters. There is hope and there are options, but junior miners also need to be strategic.

At some point, equity markets are expected to display a greater fondness for juniors. PwC also notes that the mining IPO market is being to unlock.

Ernst & Young warns that when the window for equity transactions does open, it may be “short and sharp,” which will require “agility and preparation to be ready to seize the right opportunities.”

Furthermore, “in a competitive and volatile market, junior companies must explore, understand and be ready to exploit a wider range of financing options,” states Ernst and Young.

That includes considering streaming agreements and offtake agreements. Companies can work to develop strategic partnerships with development financing institutions or mineral export credit agencies. Juniors are also advised to prepare for an environment where foreign investment plays a significant role, with heavy involvement expected from Asian players.

Ernst & Young emphasizes that sovereign wealth funds and Asian investors and customers will continue to seek strategic investment.

PwC also expects to see platforms set up so that smaller Chinese state-owned entities can invest in TSXV-listed mining companies.

Again, companies that want to thrive in this environment must realize that strategic positioning should not be underestimated or overlooked.

“China is a very old, mature, well developed society. You have to be patient. They don’t operate in the same fashion as North Americans, in that deals have to happen quickly. You have to take a much different approach when working with Asian partners,” Peter Cashin, president and CEO of Quest Rare Minerals (TSX:QRM,NYSE:QRM), told PwC.

“Juniors with multiple projects with excellent potential may look to divest one project to raise cash to allow them to move their other project (s) forward,” notes Gravelle.

“Whatever the scenario, recent IPO successes, deal activity and improving trading volumes point to a financing turnaround for junior miners in 2013,” he emphasizes. “So hold on, don’t give up.”

Securities Disclosure: I, Michelle Smith, hold no direct investment interest in any company mentioned in this article.